Economy Macro more worrying than financial health:: Emkay

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The Reserve Bank of India (RBI) released its fourth financial stability report (Dec-11,
FSR/D-11). According to the respondents in the FSR, the macro stability (read industrial
sector and fiscal health) pose much larger threat to the Indian economy than the
financial stability. FSR/D-11 also points out heightened risks arising from the asset
quality front as the RBI expect the GNPA ratios to rise from 2.8% in H1FY12 to 3-3.1% in
FY12 and 3.2-3.4% in FY13. However, FSR/D-11 emphasizes RBI’s confidence in the
robustness of the financial system driven by banks’ ability to maintain the capital
adequacy ratios above regulatory requirements even in the severe stress case scenario.
Macro outlook considered biggest risk: Out of macro outlook, financial stability
and health of financial institutions, the FSR perceives macro stability as the biggest risk.
Even within the various parameters of the macro outlook, the slowing corporate
profitability and fiscal stability (both due to slipping revenues and elevated subsidies) are
perceived as bigger risk.
¾ Corporate sector: Corporate sector saw sharp increase in risk since the last
report which came in June 2011. Corporate sector is now perceived as the bigger
risk than even growth and global turmoil. The corporate profitability has taken a
beating in the H1FY12 owing to substantial rise in input cost and higher interest
rates domestically and globally.
¾ Fiscal stability: Risk to fiscal has also seen substantial increase during the
period. Fiscal position has worsened significantly, owing to less than expected
revenue collection during the period. The additional demand for supplementary
grants points to the risk of slippages on the fiscal front.
¾ Growth: Though risk to growth has also been perceived as very high, however if
corporate sector and fiscal situation improves, India can overcome the problem of
growth and global turmoil.
¾ Global outlook: Global slowdown and sovereign debt crisis have led to
deterioration of global risk and external sector vulnerability. However the increase in
risk has not been as big as what we have seen in corporate sector and fiscal
stability.
Thus, bounce back in the profitability for the corporate sector and consolidation in the
fiscal position can help Indian economy surmount the problems arising out of the slowing
growth and unstable global economy.
Financial markets risks more driven by external sector: The report talks about
rising instability in domestic markets, albeit owing largely to the external risks. Among
domestic markets, foreign exchange and equity markets showed significant increase in
stress during H1FY12.
¾ Forex – Forex market witnessed high volatility in H1FY12, which is evident from the
increase in risk since the last report came in June 2011. Sticky inflation (above 9%
for straight 22 months) and consequent upswing of 14% in REER have resulted in
5% depreciation in INR vs USD. Moreover adverse current account balance made
the matter even worse for India.
¾ Equity: Equity markets were also equally unstable as adverse global scenario along
with slowdown in domestic growth led to outflow of capital.
¾ Debt: The debt market was also relatively more volatile than in the past, led by
higher than budgeted government borrowings and uncertainties on inflation front.
¾ Banking: Though the report points out heightened risks arising from the asset
quality front as the RBI expect the GNPA ratios to rise from 2.8% in H1FY12 to 3-
3.1% in H1FY12 and 3.2-3.4% in FY13, the ability of Indian banks to keep capital
adequacy ratios stronger than the regulatory norms, provide significant cushion to
shocks.